Fortitude and Patience

By Aline Wealth Management on February 1, 2020

As a kid at Bronx HS of Science I “treated” myself to studying (yes, I was a geek—briefcase and all) on occasion at the NY Public Library. Specifically, the Dewitt Wallace room. Those who haven’t enjoyed its quiet, yet engaging atmosphere should do so immediately. Whenever I entered this emporium of learning I would marvel at the two lion statues out front (on 5^th Ave entrance). They have names—Fortitude & Patience.

I thought of these lions as I was reflecting on markets and portfolio exposures—in Wall Street parlance these might be called “fear & greed”.  The thinking is similar:  sometimes you need to “pile in—or load the bus” and other times it might be best to accumulate “dry powder”, that is, maintaining a cautionary stance. On the following pages, I provide some “food for thought” as it relates to risk and return.

It seems that just until recently, a couple of days ago, in fact, no one gave a care about risk—complete complacency.  It reminds me of what economists call a “Minsky Moment”.  Minsky stated that complacency towards risk and the resulting sense of stability very well may cause increased instability in the future.  Most folks have been turning a blind eye to Minsky as of late – uttering “Minsky—SchMinsky” rather than focusing on the notion that low awareness begets increased potential instability. Or, as we learned 11 years ago, “Black Swans”.

Turning an eye to China, the concerns of a pandemic Flu may pale in comparison (with all due respect to lives lost) to the contagion of debt. China’s debt has ballooned over the last decade. The possibility of a “Minsky Moment” has stood at the top of the risks that worry macro investors.  There’s an argument that China’s system is so divorced from the capitalism that Minsky was covering that such an implosion is impossible there. According to Robert Barbera, the Johns Hopkins University economist who was a friend of Minsky, the dynamic that Minsky was worried about saw financial institutions marking their exposures to market until their exposures ended in bankruptcy. This can bring a cascade of bankruptcies in its wake.

In China, where there is far less fealty to free-market ideology, there is no compunction in averting bankruptcies. Authorities have been bent on doing this for years now and have great power to do it. Can this continue? As Barbera puts it: “It’s not nearly as easy to identify a Minsky Moment in China, but if and when it goes bust, God help us all.”

Recapping 2019 let’s look at what happened in 2019 (take a look at the chart below).  Stocks went up—30% up—despite:

• CEO optimism retracted
• IMF reduced its assessment for global economic growth
• Earnings in the US contracted—no growth
• Yield curves globally are either inverted or nearly so

How did stocks go up as much given the above?  Multiples expanded—but 30%!?  And they were already high. This is a function of what investors are willing to pay for earnings (and as we will see in a bit revenues or sales as well)—animal spirits and exuberance (dare I utter that Greenspanian phrase) move multiples, not facts or data.  This move is all sentiment-based, and friends that worries me.

2019 and 2020 Economic Tea Leaves:

Take a look at the charts below (thanks to our friends at Rosenberg Research) and ask yourself: Why are economic conditions so slow?

In fact, consider these recent data points:

• The conference board’s LEI in December declined 0.3%—and has been DOWN in 4 of the last 5 months. Bet you are shocked by that in light of the market action recently. Recall Buffet’s famous quip:  in the short-term, the market is like a voting machine—a popularity contest, but in the longer term it is a weighing machine —dependent on actual data.  The current level is back where we were in October 2018.

• PwC annual survey of CEOs (1600 spanning 83 countries) showed them more concerned about economic outlook than any other time in the past 11 years!!! More than 50% expect slower growth the year ahead.

• The IMF economists trimmed their global growth forecast for 2020 to 3.3% from 3.4% and to 3.4% from 3.6% next year. The IMF estimates that 2019 real GDP for the US would have been lower than the expected 2% if it wasn’t for the accommodation by the Fed—will we ever get off the Fed dole?  Will they ever normalize rates?  Just the whisper of doing so in late 2018 led to a market rout —and to the new Fed chief to backtrack those comments a few weeks later.  Where have all the heroes gone (homage to the late, great Paul Volker)?

• The world economy is in such a fragile state that it took these lower rates to avoid a recession. IMF Managing Director Kristalina Georgieva stated that we would have been in a recession if it was not for the synchronized monetary easing.  And yet markets climb higher on the shoulders of Herculean monetary accommodation and financial engineering.

Stay tuned for our full 2020 Market Outlook for a deeper dive.